Educational Articles

An Update on BP and the Gulf Oil Spill

Robert Mitkowski
| August 19, 2010

At last report, British oil giant BP (BP) was close to plugging for good its broken Macondo well in the Gulf of Mexico. A rig hired by the company exploded on April 20th and later sank, causing 50,000-60,000 barrels of oil a day to gush up from a mile-deep opening on the sea floor. The company finally stopped the disastrous, 87-day leak by counterbalancing Macondo’s internal pressure using a ``static kill’’ operation done from vessels above. The final step is the completion of a relief well that would permanently cut off pressure. BP has been working feverishly to get the job done, but rough seas during what has become storm season in the Gulf have slowed efforts to finish up.

Assessing the damage is a complicated process that includes considering the short- and long-term effects of the spill, and there are some unknowns. What is clear is that the company’s finances, its reputation, and growth prospects have all taken a hit. BP recorded a $32 billion charge related to the incident in the second quarter. That number included $20 billion to set up an escrow account to handle claims arising from lost business and lost wages owing to the incident. The account will be funded over the course of a few years. As of July, approximately 127,400 claims totaling $243 million had been made. BP is hoping its direct liabilities for the spill will be covered by the $20 billion being set aside.

Meantime, the company is selling assets to raise cash. For starters, an agreement has been reached to sell fields in North America and Egypt to Apache (APA) for $7 billion. More transactions, involving fields in Pakistan, Vietnam, Argentina, Colombia, Venezuela, Alaska, and the North Sea are likely. Some $30 billion in assets sales is targeted in all. These moves are called for, given the circumstances, but would knock growth prospects for a loop, and possibly push oil and natural gas production back to 2003 totals. After the sales, it will likely take years for BP to return to the level of oil and gas being pumped prior to the accident. It’s also not clear if legislators in this country or abroad will penalize BP by limiting its access to oilfields. Investors would view any such moves dimly.

The potential for any fines or penalties, which are highly probable, is not covered under the escrow account. Environmental laws on the books could mean a fine of as much as $4,300 for every barrel of oil spilled. With nearly five million barrels released into the Gulf of Mexico, that could possibly put BP on the hook for another $20 billion.

It may not come to that. In BP’s favor is that it has taken responsibility for the spill and has been paying claims, rather than refusing to make any payments until being forced to by the courts. BP has also replaced its CEO with a United States citizen, which may help incrementally. On the down side, the company’s poor track record regarding safety and regulatory matters in recent years may hurt its standing. A refinery explosion in Texas that killed 15 workers and an incident regarding leaky pipelines in Alaska are still fresh in the memory of many.

While the entire financial toll arising from the spill hasn’t hit home, BP has nevertheless suspended its dividend. It wasn’t politically acceptable for the company to be paying out dividends while it was amassing huge liabilities and the oil spill was in progress. A restoration of the payout, partially or in full, will be considered early in 2011.

The bottom line is that BP stock has become a speculation following its massive oil spill. Although the company appears as if it will avoid major financial problems or a forced merger, questions as to its ultimate liability for the spill linger. If investigators rule that the incident was something that could have happened to anyone, further financial penalties will be lighter than if BP is ruled to have been negligent. Either way, growth prospects have been hurt, and the fallout from the spill will be a cloud over the stock for some time to come.